Switzerland’s ‘Finance Valley’

On the surface, Pfäffikon appears little different from many other Swiss villages: a well-manicured but unlovely collection of low-rise houses and discreet office blocks on the wrong – post-industrial – side of Lake Zurich.

But beyond the bakeries and local shops, Pfäffikon is more than just a paragon of small-town wholesomeness.

On the brass door plates and signs of the town, the name of every other business is suffixed with “Capital” or “Partners”: Pfäffikon has become, in recent years, a magnet for hedge fund managers thanks to its low taxes and light-touch business environment – a pattern replicated across the country.

It is what the canton of Schwyz calls “Finance Valley”, or more barefacedly, “The Little Town of Big Money”, from where you can get a helicopter to Geneva for lunch. Or a speedboat to Zurich. Even, should you feel like slumming it, a spotless local train.

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In recent weeks, however, the hedge fund managers of Pfäffikon, and Switzerland’s other discreet, low tax, light-touch towns, have been set chattering by sweeping changes to the way they will be able to do business.

Switzerland’s hedge fund management community is about to be subject to tough new regulatory oversight from the national markets regulator, Finma, thanks to legal changes designed to set a gold standard in global investor protection after Swiss asset managers’ reputations suffered during the financial crisis.

By 2013, the country’s hedge fund managers will move from being completely unregulated to operating under one of the most stringent regimes in the world. Switzerland's new laws will not only bring it into line with European Union regulations on hedge funds but, in some instances, go further.

“It’s a massive change in a country where regulation for asset managers didn’t exist previously,” says David Butler, the founder of Kinetic Partners, a consultancy that has helped move 50 hedge fund managers from London to Switzerland in the past five years. “A large number of those will get regulated,” says Mr Butler, adding that regulation in itself is “healthy”, if difficult to get right.

Among the more controversial elements of the rules are requirements that foreign-domiciled funds, such as those based in the Cayman Islands – most of the $2tn industry – must employ permanent representatives in Switzerland if they wish to take investment from Swiss institutions. The Swiss government will also have to have information sharing agreements in place with any such foreign jurisdictions.

Given the huge amounts of money funnelled into hedge funds through Swiss banks alone, the new regulations are local rules that will have a global footprint.

“These are specific Swiss features that are definitely protectionist,” says Joe Seet, head of the London-based hedge fund consultancy Sigma Partnership. “But is that necessarily bad? When you look at it reputationally, the Swiss have had a difficult time,” says Mr Seet, pointing to the Madoff scandal, which hit several prominent Swiss investment houses hard. “The aim is to create something that investors are more confident about,” he says.

Switzerland’s local hedge fund industry is not entirely thrilled with the proposals, however.

“It’s a good thing for the investors, but a complete pain for hedge fund managers themselves,” says Marcel Jouault, the chief executive of the Pfäffikon Financial Center.

Managers of small funds, of which Switzerland has many hundreds, are likely to be hit the hardest. The rules will require managers to hire dedicated compliance officers, for example, adding significant costs to firms that may employ as few as three or four individuals.

“A colleague who runs a $500m fund did an assessment and they came to the conclusion that they would not be profitable when these rules come into place,” says Christian Sougel, the head of Ernst & Young’s Swiss asset management practice.

“I don’t think the industry has grasped the urgency of the matter,” he says. “They are only just getting to grips with European regulations.”

Indeed, the Swiss regulations are being instituted to match the EU’s controversial alternative investment fund manager directive, due to come into force in 2013.

“It is to be seen in context with the AIFM rules in Europe and aims to raise quality in asset management in general and strengthen investor protection,” a spokesman for Finma said

Whether it will, or whether it will merely result in higher costs being passed on to such investors, remains to be seen, say the hedge fund managers of Pfäffikon and their peers.

Switzerland’s reputation as a bolthole for regulation-averse and publicity-shy hedge fund managers is not entirely undeserved.

Since Philippe Jabre, the former GLG Partners trading star, moved to the country following a then-record £750,000 fine for market abuse by the UK’s FSA in 2006, the Swiss cantons have steadily built up their share of successful but recondite hedge funds.

Mr Jabre has been all but fully rehabilitated into the hedge fund industry and is, according to many peers, the proof that grown-up investors do not need tough regulations to help them pick, and profit from, the best managers.

Indeed, of an estimated 500 hedge fund managers based in Switzerland, just 91 are registered with Finma, the Swiss market regulator.

Registration is only necessary for those management companies running funds which are also themselves based onshore in Switzerland.

Not every fund manager enjoys the lack of oversight. “It’s always been our view that the highest level of regulation was a good thing,” said Christopher Cruden, founder of Lugano-based Insch Capital.

The past two years have nevertheless seen scores of high-profile hedge fund names setting up in the alpine country, thanks to the rise in the top rate of tax in the UK to 50 per cent and the threat of broad new regulation of the industry from the EU.

The only reason Europe’s biggest hedge fund, the Man Group, didn’t also move from London, industry watchers pointed out at the time, was because it already had: Man’s 500-person office in the village of Pfäffikon has been in operation since 2002.